Industrial Production - The Revival May Have Ended
The media as of late has been replete with a myriad of bullish calls on the economy. The economic data did improve in the last quarter of which there is no doubt. However, what we need to know as investors is whether or not it is sustainable going forward. Industrial production was released this morning and came in unchanged from last month and below overall expectations. However, what is important about today's release is that it continues to confirm, along with other indicators such as retail sales, that the bounce in the economy in the late 3rd and 4th quarters of 2011 is likely ephemeral due to the pent up demand created by the Japanese earthquake/tsunami catastrophe that temporarily shut down manufacturing. This led to a bleed down in inventories and a demand glut that needed to be filled.
Now, however, the data is becoming more evident that the short term draft created last year has likely been filled. This has been evident in the slowing of retail sales (ie. less demand) and a buildup of inventories in recent manufacturing releases. Corporate earnings, likewise, are beginning to be impacted and pricing has been soft.
Unfortunately, the market, as it always does, has extrapolated the 4th quarter bump in economic growth well into the future and is pricing in economic perfection. However, any failure of the continuation of that strength into the future will lead to sharp and sudden market corrections as it reprices risk.
From David Rosenberg this morning: "[see chart] It is the YoY trend in real final sales - real GDP excluding inventories. It is currently running at a 1.4% pace. How that fits into a 'growth' theme escapes us. Also note that the latest tick is down, and quite, noticeably.
This goes to show how inventories played a role in this cycle - they added 0.8% at an average annual rate to the headline GDP growth rate of 2.4% since the recession ended, the weakest recovery on record. But now that inventories are no longer going to be making a contribution, along with the deceleration in capital spending, a flat trend line to the consumer, ongoing drag from the government sector and the next shoe to drop which is a deterioration in next exports, not even the widely anticipated revival in that 2.5% share of GDP called housing is going to manage to prevent a deeper slowdown ahead in the pace of U.S. economic activity from levels that are, let's face it, pretty anemic as it is. Look for more downward revisions to the earnings outlook to take hold in this environment."
The point here is not to get swept up in market and mainstream media hype. The downside risks are mounting quickly and the complacency by investors is beginning to reach real extremes. Caution and patience will pay big dividends in the not so distant future.